Calcutta Notebook


The immediate cause of the fall of the rupee against the dollar is that imports are more than exports. Supply of dollars is less than demand. This is leading to an increase in the price of the dollar vis-a-vis the rupee. Government thinking is that reduction of imports will solve the problem. The focus is especially on reducing gold imports that are considered 'unproductive.' The Government had imposed a hefty import duty on gold imports which led to a dip in imports in August but the imports have bounced back in September. Imports of gold show no signs of receding.

It is incorrect, moreover, to blame imports of gold for decline in value of the rupee. The share of fuel oil in India’s imports is 38 percent against only 11 percent for gold. Thus first effort should be to reduce consumption of energy. But Manmohan Singh is on record saying that India must increase energy consumption! The Government cannot have the cake and eat it too. It cannot encourage more imports of oil and also expect rupee to hold stable.

Imports are for three purposes. First is import of oil for production such as for supply of electricity to software centers or for railway traction; or import of machinery. Second is for investment in gold. Third is for conspicuous consumption such as diesel for SUVs and for import of Swiss chocolates and French perfumes. There is no dispute about the first category. These are necessary. That said the present policy is to encourage imports of Swiss Chocolates and discourage imports of gold. This is wholly unacceptable. Swiss chocolates and gold are both a form of consumption. Difference is that Swiss chocolates disappear while gold remains in the family vaults. Purchase of gold is, truly speaking, a form of investment. It is much better than Swiss chocolates because the gold remains.

The Government should prioritize imports. The first category of productive imports such as oil for railway traction and machinery and fertilizers should be allowed unrestricted. The second category of gold should be kept on an even keel-neither encouraged nor discouraged. The third category of consumption such as Swiss chocolates, branded furniture and luxury cars should be strongly discouraged.

India's share in global trade is two percent; share in global income is six percent but share in gold imports is 25 percent. People do not trust paper money. They know that their hard-earned wealth may disappear in a day when the currency collapses. Proof lies in the experience of the last two years. Those who invested in gold have gained substantially while those who invested in Fixed Deposits have lost value. The real value of any investment in the bank declines if the rate of inflation is higher than the rate of interest.

Inflation is largely dependent on the consumptive expenditures of the Government. The Government borrows huge amounts from the market to meet its increasing expenditures such as enhanced salaries to government servants. This leads to an increase in interest rates. The Reserve Bank prints more money to keep the interest rates down. This printing leads to inflation. Same amount of goods produced in the economy are chased by larger number of currency notes.  The Government wants the countrymen to deposit their money in banks so that ministers and officials have more money to spend. The Government cares not that the people will lose their hard-earned earnings.

The dollar is rising at the moment. Analysts seem to be veering around to the view that bad days are over, the world economy will move forward here onwards. In reality nothing has changed between 2008 and now which would indicate improvement in fortunes of the United States. That country is as uncompetitive today as it was five years ago. What has changed is that the United States has borrowed huge amounts of monies from the global investors and provided a huge stimulus to its economy. This borrowing is a charge on future. The present upswing appears to be more due to this artificial stimulus and not likely to sustain.

The restrictions applied on imports of gold have not been; and will not be effective. It was common to hear of seizures of gold that was being smuggled in the eighties. The Government was not able to prevent the smuggling. Ultimately it dawned upon the Government that not only outflow of scarce foreign exchange continued to take place; but the Government was also losing revenues from import duties. The Government rightly liberalized gold imports and started collecting import duty. Now the duty has been raised from 4 percent to 10 percent making smuggling attractive again. Recently a truck was seized in Nepal that was trying to smuggle 35 kg gold from China. A few days back police in Kolkata succeeded to unearth huge quantities of gold coins in a plane.

Lastly a reduction in imports of gold will not lead to a reduction in Current Account Deficit (CAD). CAD is the difference between imports and exports. The difference is covered by inward foreign investment. The simple equation is like this: Exports + Foreign Investment = Imports. Now, if imports decline, but foreign investment continues to come as previously, then exports necessarily have to decline. This means that the way to contain CAD is to cut foreign investment inflows. The higher demand of dollars for imports will lead to increase in price of dollar; decline in price of rupee and Indian exports will soon bounce back—exactly as had happened in 1991-92 when Manmohan Singh allowed the rupee to devalue from Rs 15 to Rs 25 overnight. It remains to be seen whether the present decline in the rupee will lead to rise in exports; make up for loss of foreign investment inflows and wipe out the CAD.

Vol. 46, No. 23, Dec 15 -21, 2013

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